Accounting Chapter 21

21. Major reasons why a company may become involved in leasing to other companies is (are) a. interest revenue. b. high residual values. c. tax incentives. d. all of these.

22. Which of the following is an advantage of leasing? a. Off-balance-sheet financing b. Less costly financing c. 100% financing at fixed rates d. All of these

23. Which of the following best describes current practice in accounting for leases? a. Leases are not capitalized. b. Leases similar to installment purchases are capitalized. c. All long-term leases are capitalized. d. All leases are capitalized.

24. While only certain leases are currently accounted for as a sale or purchase, there is theoretic justification for considering all leases to be sales or purchases. The principal reason that supports this idea is that a. all leases are generally for the economic life of the property and the residual value of the property at the end of the lease is minimal. b. at the end of the lease the property usually can be purchased by the lessee. c. a lease reflects the purchase or sale of a quantifiable right to the use of property. d. during the life of the lease the lessee can effectively treat the property as if it were owned by the lessee.

S25. An essential element of a lease conveyance is that the a. lessor conveys less than his or her total interest in the property. b. lessee provides a sinking fund equal to one year's lease payments. c. property that is the subject of the lease agreement must be held for sale by the lessor prior to the drafting of the lease agreement. d. term of the lease is substantially equal to the economic life of the leased property.

S26. What impact does a bargain purchase option have on the present value of the minimum lease payments computed by the lessee? a. No impact as the option does not enter into the transaction until the end of the lease term. b. The lessee must increase the present value of the minimum lease payments by the present value of the option price. c. The lessee must decrease the present value of the minimum lease payments by the present value of the option price. d. The minimum lease payments would be increased by the present value of the option price if, at the time of the lease agreement, it appeared certain that the lessee would exercise the option at the end of the lease and purchase the asset at the option price.

P27. The amount to be recorded as the cost of an asset under capital lease is equal to the a. present value of the minimum lease payments. b. present value of the minimum lease payments or the fair value of the asset, whichever is lower. c. present value of the minimum lease payments plus the present value of any unguaranteed residual value. d. carrying value of the asset on the lessor's books.

28. The methods of accounting for a lease by the lessee are a. operating and capital lease methods. b. operating, sales, and capital lease methods. c. operating and leveraged lease methods. d. none of these.

29. Which of the following is a correct statement of one of the capitalization criteria? a. The lease transfers ownership of the property to the lessor. b. The lease contains a purchase option. c. The lease term is equal to or more than 75% of the estimated economic life of the leased property. d. The minimum lease payments (excluding executory costs) equal or exceed 90% of the fair value of the leased property.

30. Minimum lease payments may include a a. penalty for failure to renew. b. bargain purchase option. c. guaranteed residual value. d. any of these.

31. Executory costs include a. maintenance. b. property taxes. c. insurance. d. all of these.

32. In computing the present value of the minimum lease payments, the lessee should a. use its incremental borrowing rate in all cases. b. use either its incremental borrowing rate or the implicit rate of the lessor, whichever is higher, assuming that the implicit rate is known to the lessee. c. use either its incremental borrowing rate or the implicit rate of the lessor, whichever is lower, assuming that the implicit rate is known to the lessee. d. none of these.

33. In computing depreciation of a leased asset, the lessee should subtract a. a guaranteed residual value and depreciate over the term of the lease. b. an unguaranteed residual value and depreciate over the term of the lease. c. a guaranteed residual value and depreciate over the life of the asset. d. an unguaranteed residual value and depreciate over the life of the asset.

34. In the earlier years of a lease, from the lessee's perspective, the use of the a. capital method will enable the lessee to report higher income, compared to the operating method. b. capital method will cause debt to increase, compared to the operating method. c. operating method will cause income to decrease, compared to the capital method. d. operating method will cause debt to increase, compared to the capital method.

P35. A lessee with a capital lease containing a bargain purchase option should depreciate the leased asset over the a. asset's remaining economic life. b. term of the lease. c. life of the asset or the term of the lease, whichever is shorter. d. life of the asset or the term of the lease, whichever is longer.

36. Based solely upon the following sets of circumstances indicated below, which set gives rise to a sales-type or direct-financing lease of a lessor? Transfers Ownership Contains Bargain Collectibility of Lease Any Important By End Of Lease? Purchase Option? Payments Assured? Uncertainties? a. No Yes Yes No b. Yes No No No c. Yes No No Yes d. No Yes Yes Yes

37. Which of the following would not be included in the Lease Receivable account? a. Guaranteed residual value b. Unguaranteed residual value c. A bargain purchase option d. All would be included

38. In a lease that is appropriately recorded as a direct-financing lease by the lessor, unearned income a. should be amortized over the period of the lease using the effective interest method. b. should be amortized over the period of the lease using the straight-line method. c. does not arise. d. should be recognized at the lease's expiration.

S39. In order to properly record a direct-financing lease, the lessor needs to know how to calculate the lease receivable. The lease receivable in a direct-financing lease is best defined as a. the amount of funds the lessor has tied up in the asset which is the subject of the direct-financing lease. b. the difference between the lease payments receivable and the fair value of the leased property. c. the present value of minimum lease payments. d. the total book value of the asset less any accumulated depreciation recorded by the lessor prior to the lease agreement.

S40. If the residual value of a leased asset is guaranteed by a third party a. it is treated by the lessee as no residual value. b. the third party is also liable for any lease payments not paid by the lessee. c. the net investment to be recovered by the lessor is reduced. d. it is treated by the lessee as an additional payment and by the lessor as realized at the end of the lease term.

41. When lessors account for residual values related to leased assets, they a. always include the residual value because they always assume the residual value will be realized. b. include the unguaranteed residual value in sales revenue. c. recognize more gross profit on a sales-type lease with a guaranteed residual value than on a sales-type lease with an unguaranteed residual value. d. All of the above are true with regard to lessors and residual values.

42. The initial direct costs of leasing a. are generally borne by the lessee. b. include incremental costs related to internal activities of leasing, and internal costs related to costs paid to external third parties for originating a lease arrangement. c. are expensed in the period of the sale under a sales-type lease. d. All of the above are true with regard to the initial direct costs of leasing.

S43. The primary difference between a direct-financing lease and a sales-type lease is the a. manner in which rental receipts are recorded as rental income. b. amount of the depreciation recorded each year by the lessor. c. recognition of the manufacturer's or dealer's profit at the inception of the lease. d. allocation of initial direct costs by the lessor to periods benefited by the lease arrangements.

P44. A lessor with a sales-type lease involving an unguaranteed residual value available to the lessor at the end of the lease term will report sales revenue in the period of inception of the lease at which of the following amounts? a. The minimum lease payments plus the unguaranteed residual value. b. The present value of the minimum lease payments. c. The cost of the asset to the lessor, less the present value of any unguaranteed residual value. d. The present value of the minimum lease payments plus the present value of the unguaranteed residual value.

45. For a sales-type lease, a. the sales price includes the present value of the unguaranteed residual value. b. the present value of the guaranteed residual value is deducted to determine the cost of goods sold. c. the gross profit will be the same whether the residual value is guaranteed or unguaranteed. d. none of these.

46. Which of the following statements is correct? a. In a direct-financing lease, initial direct costs are added to the net investment in the lease. b. In a sales-type lease, initial direct costs are expensed in the year of incurrence. c. For operating leases, initial direct costs are deferred and allocated over the lease term. d. All of these.

47. The Lease Liability account should be disclosed as a. all current liabilities. b. all noncurrent liabilities. c. current portions in current liabilities and the remainder in noncurrent liabilities. d. deferred credits.

48. To avoid leased asset capitalization, companies can devise lease agreements that fail to satisfy any of the four leasing criteria. Which of the following is not one of the ways to accomplish this goal? a. Lessee uses a higher interest rate than that used by lessor. b. Set the lease term at something less than 75% of the estimated useful life of the property. c. Write in a bargain purchase option. d. Use a third party to guarantee the asset's residual value.

*49. If the lease in a sale-leaseback transaction meets one of the four leasing criteria and is therefore accounted for as a capital lease, who records the asset on its books and which party records interest expense during the lease period? Party recording the asset on its books Party recording interest expense a. Seller-lessee Purchaser-lessor b. Purchaser-lessor Seller-lessee c. Purchaser-lessor Purchaser-lessor d. Seller-lessee Seller-lessee

*50. In a sale-leaseback transaction where none of the four leasing criteria are satisfied, which of the following is false? a. The seller-lessee removes the asset from its books. b. The purchaser-lessor records a gain. c. The seller-lessee records the lease as an operating lease. d. All of the above are false statements.

*51. When a company sells property and then leases it back, any gain on the sale should usually be a. recognized in the current year. b. recognized as a prior period adjustment. c. recognized at the end of the lease. d. deferred and recognized as income over the term of the lease.

Lease A does not contain a bargain purchase option, but the lease term is equal to 90 percent of the estimated economic life of the leased property. Lease B does not transfer ownership of the property to the lessee by the end of the lease term, but the lease term is equal to 75 percent of the estimated economic life of the leased property. How should the lessee classify these leases? Lease A Lease B a. Operating lease Capital lease b. Operating lease Operating lease c. Capital lease Capital lease d. Capital lease Operating lease

101. On December 31, 2013, Burton, Inc. leased machinery with a fair value of $1,050,000 from Cey Rentals Co. The agreement is a six-year noncancelable lease requiring annual payments of $200,000 beginning December 31, 2013. The lease is appropriately accounted for by Burton as a capital lease. Burton's incremental borrowing rate is 11%. Burton knows the interest rate implicit in the lease payments is 10%. The present value of an annuity due of 1 for 6 years at 10% is 4.7908. The present value of an annuity due of 1 for 6 years at 11% is 4.6959. In its December 31, 2013 balance sheet, Burton should report a lease liability of a. $758,160. b. $850,000. c. $939,180. d. $958,160.

102. On December 31, 2012, Harris Co. leased a machine from Catt, Inc. for a five-year period. Equal annual payments under the lease are $840,000 (including $40,000 annual executory costs) and are due on December 31 of each year. The first payment was made on December 31, 2012, and the second payment was made on December 31, 2013. The five lease payments are discounted at 10% over the lease term. The present value of minimum lease payments at the inception of the lease and before the first annual payment was $3,336,000. The lease is appropriately accounted for as a capital lease by Harris. In its December 31, 2013 balance sheet, Harris should report a lease liability of a. $2,536,000. b. $2,496,000. c. $2,282,400. d. $1,989,600.

103. A lessee had a ten-year capital lease requiring equal annual payments. The reduction of the lease liability in year 2 should equal a. the current liability shown for the lease at the end of year 1. b. the current liability shown for the lease at the end of year 2. c. the reduction of the lease liability in year 1. d. one-tenth of the original lease liability.

On January 2, 2013, Hernandez, Inc. signed a ten-year noncancelable lease for a heavy duty drill press. The lease stipulated annual payments of $250,000 starting at the end of the first year, with title passing to Hernandez at the expiration of the lease. Hernandez treated this transaction as a capital lease. The drill press has an estimated useful life of 15 years, with no salvage value. Hernandez uses straight-line depreciation for all of its plant assets. Aggregate lease payments were determined to have a present value of $1,500,000, based on implicit interest of 10%. 104. In its 2013 income statement, what amount of interest expense should Hernandez report from this lease transaction? a. $0 b. $93,750 c. $125,000 d. $150,000 105. In its 2013 income statement, what amount of depreciation expense should Hernandez report from this lease transaction? a. $250,000 b. $200,000 c. $150,000 d. $100,000

106. In a lease that is recorded as a sales-type lease by the lessor, interest revenue a. should be recognized in full as revenue at the lease's inception. b. should be recognized over the period of the lease using the straight-line method. c. should be recognized over the period of the lease using the effective interest method. d. does not arise.

108. Jamar Co. sold its headquarters building at a gain, and simultaneously leased back the building. The lease was reported as a capital lease. At the time of the sale, the gain should be reported as a. operating income. b. an extraordinary item, net of income tax. c. a separate component of stockholders' equity. d. a deferred gain.

*109. On December 31, 2013, Haden Corp. sold a machine to Ryan and simultaneously leased it back for one year. Pertinent information at this date follows: Sales price $900,000 Carrying amount 825,000 Present value of reasonable lease rentals ($7,500 for 12 months @ 12%) 85,000 Estimated remaining useful life 12 years In Haden's December 31, 2013 balance sheet, the deferred profit from the sale of this machine should be a. $85,000. b. $75,000. c. $10,000. d. $0.